Fed rule on overseas bank units may spark reprisal, EU says

Proposals are a "radical departure"

The European Union intensified its campaign against U.S. Federal Reserve proposals to toughen oversight of bank units belonging to overseas lenders, warning of “potential retaliation” against the plans.

Michel Barnier, the EU’s financial services chief, last week sent a three-page critique of the draft measures to Fed Chairman Ben Bernanke, saying that they risk driving up costs at EU-based banks, leaving them at a competitive disadvantage. The move follows a meeting this month between Barnier and U.S. Treasury Secretary Jacob J. Lew, where the Frenchman pressed for a change of course.

The proposals are “a radical departure from the existing U.S. policy,” and may undermine efforts to ensure that large banks can be safely wound down if they fail, Barnier wrote in his April 18 letter to Bernanke, obtained by Bloomberg News. The standards “could spark a protectionist reaction from other jurisdictions, which could ultimately have a substantial negative impact on the global economic recovery.”

Under the draft Fed plans, published in December, foreign lenders would be forced to organize their U.S. subsidiaries under a locally regulated holding company, with its own reserves of capital and easy-to-sell assets that could be tapped in crises. Bernanke has said the measure would be an “important step” in addressing “the risks that large, interconnected financial institutions pose to U.S. financial stability.”

Rigorous Regulation

The Fed proposals shouldn’t apply to banks that are already subject to rigorous regulation in the country where their headquarters are based, according to Barnier’s letter.

Banks would be required to comply with the new Fed rules if they have consolidated assets of $50 billion, with U.S. subsidiaries accounting for $10 billion.

“The U.S. operations of large foreign institutions have changed in recent years -- marked in part by significantly greater reliance on potentially unstable, short-term wholesale funding and rapid growth in their capital markets activities,” said Barbara Hagenbaugh, a Fed spokeswoman.

The “targeted adjustments” to the Fed’s supervision “create a more consistent regulatory structure for all firms operating in the United States,” Hagenbaugh said. The U.K., “the most comparable host country to the United States, has already required that subsidiaries of large foreign financial firms in London meet local capital and liquidity requirements.”

Home Country

The proposals would allow overseas-based banks to maintain branches in the U.S. without setting up the holding company structure. Branches allow banks to carry out some activities overseas, with regulatory oversight still largely conducted by the lender’s home country regulator.

The measures, which are open for comment until the end of April, would take effect from July 1, 2015.

The draft Fed rules are one of two main battles Barnier is waging to change draft U.S. financial rules.

Barnier was among nine overseas finance officials that signed a separate letter last week urging Lew to limit the cross-border reach of swaps rules that they say are fragmenting the market for over-the-counter derivatives.

“We fully understand the American concern to safeguard financial stability, but we would like to ensure that there is a fair, level playing field for European banks operating in the U.S., and that the regulatory approach to them is proportionate,” Chantal Hughes, Barnier’s spokeswoman, said by e-mail. She confirmed the authenticity of the April 18 letter.